A Brief Update on Dow Theory, Primary Trends and Non-Confirmations

According to orthodox Dow theory, once a primary trend change is set into
motion by a joint close above a previous secondary high point or below the
previous secondary low point, which ever the case may be, that trend change
must be considered to be in force until it is "authoritatively reversed" by
an opposing joint close above or below the previous secondary high or low point.
As the market declined in August 2011 both averages moved below their previous
secondary lows points and in doing so a primary bearish trend change occurred.
The current Dow theory chart can be found below. It is because both averages
have not jointly bettered their previous secondary high points since the advance
out of the October 2011 secondary low was made that a primary bullish trend
change never occurred. Yes, I realize that many erroneously viewed the move
above the October 2011 highs as a primary bullish trend change. This was incorrect
as that high did not qualify as a secondary high point. The advantage I have
with my statistical based trend quantification work is that it allows us to
identify secondary high and low points more precisely because rather than guess
whether a secondary high or low has occurred, I have statistics to guide me.

Anyway, going back to the advance out of the October 2011 low, both averages
stretched up into their last joint high, which occurred in February, at which
time the Transports peaked. From this joint high, the Transports moved down
into their March secondary low point. However, the Industrials continued higher
finding their corresponding secondary high point on April 2nd and from there
the Industrials moved down into their corresponding secondary low point, which
occurred on April 10th. As a result of the continued advance by the Industrials
into their April high and the lagging Transports, a Dow theory upside non-confirmation
was born. With the Transports making their secondary low point ahead of the
Industrials, the averages were not in perfect sync. Nonetheless, the important
thing is the price action that followed these secondary low points. As the
Transports advanced out of their February low, they peaked with their March
19th close. Yet, as the Industrials advanced out of their corresponding April
secondary low they were able to move above their April 2nd secondary high point
with their most recent secondary high occurring on May 2nd. Because the Transports
were not able to follow suit, the non-confirmation that began in February continued
to grow. Then, with the move in May below the March/April secondary low points,
the existing primary bearish trend change that occurred in August 2011 was
reconfirmed.

Given that orthodox Dow theory is centered around the movement of the averages
above and below previous secondary high and low points, it is the non-confirmation
that has occurred since February that is key. However, it's probably also worth
noting that while the Industrials were able to better their 2011 highs, the
Transports were not. Therefore, we can make the argument that we also have
a higher degree non-confirmation in place as well. In light of these non-confirmations
I would like to share a few quotes with you from our Dow theory founding fathers.

William Peter Hamilton - "The movement of both the railroad and industrial
stock averages should always be considered together. The movement of one price
average must be confirmed by the other before reliable inferences may be drawn.
Conclusions based upon the movement of one average, unconfirmed by the other,
are almost certain to prove misleading."

William Peter Hamilton - "Dow's theory stipulates for a confirmation of one
average by the other. This constantly occurs at the inception of a primary
movement, but is anything but consistently present when the market turns for
a secondary swing."

William Peter Hamilton - "When one breaks through an old low level without
the other, or when one establishes a new high for the short swing, unsupported,
the inference is almost invariably deceptive."

William Peter Hamilton - "Indeed it may be said that a new high or a new low
by one of the averages unconfirmed by the other has been invariably deceptive.
New high or low points for both have preceded every major movement since the
averages were established."

William Peter Hamilton - "The two averages may vary in strength, but they
will not vary materially in direction especially in a major movement. Throughout
all the years in which both averages have been kept, this rule has proved entirely
dependable. It is not only true in the major swings of the market, but it is
approximately true of the secondary actions and rallies. It would not be true
of the daily fluctuations, and it might be utterly misleading so far as individual
stocks are concerned."

Robert Rhea - "The most useful part of the Dow theory, and the part that must
never be forgotten for even a day, is the fact that no price movement is worthy
of consideration unless the movement is confirmed by both averages."

Robert Rhea - "The Dow theory deals exclusively with the movement of the railroad
and industrial stock averages, and any other method would not be Dow's theory
as expounded by Hamilton."

Robert Rhea - "When the averages disagree they are shouting 'be careful.'"

I wrote here last August, when the bearish primary trend change occurred,
that not all trend changes are created equally. Point being, last August when
the primary bearish trend change occurred, I reported then that the market
was moving into a secondary low point and that once that low was made the market
should move above the May 2011 high. I was able to make this call because of
my statistical based research and the associated DNA Markers. Therefore, this
statistical based work not only gives me a way to more accurately identify
secondary high and low points, it also gives us a method to "filter" primary
trend changes. This also goes for non-confirmations as well. The key at this
point is the technical setup and our statistical based DNA Markers. This is
an ongoing development that is covered in my research letters and short-term
updates at Cycle News & Views. As was the case at the 2000 top and the
2007 top, in spite of the efforts by the Fed, once the proper technical setup
is in place, the secular bear market will resume in association with the decline
into the Phase II low.

I have begun doing free market commentary that is available at www.cyclesman.net so
please begin joining me there. The August issue of Cycles News & Views
will be out soon and in it I give detailed analysis of the current situation
from both a cyclical and a Dow theory perspective, as well as a look at the
currently applicable statistics and DNA Markers. A subscription includes access
to the monthly issues of Cycles News & Views, which includes Dow theory,
a very detailed statistical based analysis covering not only the stock market,
but the dollar, bonds, gold, silver and oil,` along with short-term updates
3 times a week.